How To Invest An Inheritance
How To Invest An Inheritance
After you’ve received proceeds from an inheritance, your next step is to start building a plan to manage and invest your new wealth.
Depending on your comfort level and interest in aligning a portfolio with your financial and life goals, you may undertake this process by yourself or in conjunction with a fiduciary, fee-only financial advisor who helps inheritors manage and grow their inherited wealth.
Posted on March 1, 2024 by Katherine Fox.
How To Invest An Inheritance
What do I need to know about how to invest an inheritance?
Investing inherited wealth is a privilege and a responsibility that requires careful consideration and strategic planning.
It often brings mixed emotions, from an initial sense of financial security to the weight of managing newfound resources.
This blog post is your guide to investing inherited wealth, providing insights into financial strategies, the emotional aspects of managing new wealth, and the crucial role of finding a trusted partner to help navigate your new financial landscape.
Whether you're looking to preserve wealth for future generations, generate income, or contribute to meaningful causes, this post has the information you need to make informed decisions that align your wealth with your financial goals and personal values.
What is the best way to invest an inheritance?
There is no “best” way to invest an inheritance. Managing a new level of wealth is a highly personal endeavor, and your investment plan should be tailored to meet your financial and life goals.
Your “best” way to invest an inheritance may be to purchase a home. Another inheritor’s “best” way may be to put all their money in the stock market and let it grow for their future needs.
While there is no single best way to invest an inheritance, there is a way that is best for you. Finding that path involves diving into your personal goals while educating yourself about the options available to build a long-term portfolio to meet your life and financial goals.
How can a financial advisor help me decide how to invest an inheritance?
Enlisting the support of a financial advisor when dealing with inherited wealth is not just a practical decision; it can also be profoundly emotional.
Inheritances often come with a mix of emotions: grief, responsibility, and uncertainty about managing newfound wealth.
In aligning your financial strategy with your personal goals and values, an advisor can help you find purpose and direction, transforming your inherited wealth into a meaningful legacy.
How To Invest An Inheritance
The first step to investing your inheritance is clarifying your financial goals.
Before investing inherited wealth, you should understand your financial and life goals.
Reflect on your short, medium, and long-term goals and consider how your new wealth can help you reach these goals. This will provide key data in determining how your investment portfolio is ultimately allocated.
Whether your objective is growing your wealth for heirs, building a cushion for yourself after retirement, or giving as much as possible away to philanthropic, personal, and political causes through a Donor Advised Fund, private foundation, or other giving vehicle, your goals will lay the foundation for your investment strategy.
Investing an inheritance requires you to understand your risk tolerance and time horizon.
Every individual and family has a unique risk tolerance, influenced by age, financial circumstances, and personal preferences.
Your investment strategy should align with your liquidity needs, time horizon, and comfort level with risk.
Understanding the time horizon for different financial goals allows for appropriate asset allocation. For long-term goals like retirement, a higher allocation to growth-oriented investments may be suitable, while short-term goals might require a more conservative approach.
The most successful investors take a long-term, buy-and-hold approach. Balancing risk and reward is a delicate process that should enable you to weather market fluctuations without unnecessary stress.
“The most important part of long-term investing is managing your emotions and expectations.
When you are investing for a 5, 10, or 20-year-plus horizon, what the markets are doing today, this week, or this month doesn’t matter.”
Inheritors building a plan to invest their inheritance need to remember the importance of diversification.
One of the most common mistakes inheritors make when investing an inheritance is getting sold on a hot new idea or stock tip. This could be jumping into a bubble, like cryptocurrency, or a huge investment in a friend’s start-up.
Inheritors, especially from million or multi-million dollar estates, should be wary of investing “experts” coming out of the woodwork looking for money.
Rather than listening to advice from your new best friends who happen to be asking for money, focus on building an appropriately diversified long-term portfolio that will help meet your needs.
The three key areas of diversification are:
Asset Class Diversification
Stocks, bonds, real estate, and alternative investments have distinct risk and return profiles.
Spreading an inheritance across these assets can help cushion the impact of poor performance in one sector with positive returns in another.
Geographic Diversification
With an appropriate allocation to international investments in a portfolio, inheritors can reduce exposure to risks associated with a specific country or region.
This approach can help capture opportunities in rapidly growing markets and mitigate the impact of economic downturns in a single location, including the United States.
Sector Diversification
Within the stock market, technology, healthcare, and consumer goods represent different sectors with their return dynamics.
A well-balanced allocation can protect against sector-specific risks and capitalize on sector-specific growth.
LEARN MORE ABOUT MANAGING AN INHERITANCE
How should I invest inheritance money for the short term (less than 1 year)?
Money that you expect to need for the short term should be invested in a safe location. This might include:
Checking account
Savings account
High-yield savings account
Depending on interest rates, how much money you are investing, and current interest rates, opening a new high-yield savings account may or may not make sense.
As of March 2024, a high-yield savings account may pay you between 4.5-5.25%. If you inherited a large amount of money and expect to hold it for more than 3 months, opening an account may be worth your time.
If you already have a high-yield savings account, it is an easy choice to hold your inheritance that is bookmarked for short-term needs.
If you inherited more than $250,000, be aware of the limits of FDIC insurance for bank accounts. A bank account with a single owner is only insured up to $250,000, while a joint bank account could be insured up to $500,000.
Sunnybranch Wealth partners with StoneCastle Cash Management to allow clients to invest up to $25,000,000 with full FDIC insurance. If you inherited from a large estate and need help with cash management services while you plan what to do next, reach out to Sunnybranch to see how we can help.
How should I invest inheritance money for the medium term (1-4 years)?
Money you will need in the next 1-4 years may be invested in the same place as short-term cash.
Depending on the time sensitivity of your needs, your desire to make a return on your investment, and your risk tolerance, you may decide to take on slightly more risk.
The “right” place to invest money you need in the medium term will depend on the factors listed above.
Given current rates in high-yield accounts, investors with anything other than an extremely high risk tolerance or a very flexible future cash need may want to stick with a high-yield savings account.
If you’re interested in taking more risk with money needed for the medium term, the following options are listed from less to more risk:
Certificates of Deposit (CDs) are bank deposits with fixed interest rates and maturities ranging from a few months to a few years. They offer a predictable return and are considered a low-risk option. However, withdrawing before the maturity date may incur penalties.
Money Market Funds invest in short-term, low-risk securities, such as Treasury bills and commercial paper. They provide a secure and liquid option for medium-term cash management, although they have some risk of investment losses.
U.S. Treasury securities, such as Treasury bills (T-bills) or Treasury notes, are considered low-risk investments. They are backed by the government and offer fixed interest rates. T-bills with shorter maturities can be suitable for short-term investment goals.
Short-term bonds or bond funds can provide a balance between safety and returns. They carry less risk than longer-term bonds but may offer better yields than a savings account. Bond funds provide diversification across various bonds.
While stocks inherently involve more risk, investing in stable, dividend-paying stocks can be an option for a 3-5 year time horizon. Look for companies with a history of consistent dividend payments and a strong financial position.
How should I invest inheritance money for the long term (5 years)
Money not needed for at least five years can be invested in the stock market in line with your risk tolerance.
Focus on investing in broadly diversified, low-cost index funds. You can always increase the complexity of your investments as your knowledge and experience grows.
Appropriate investments may include:
Mutual Funds are investment vehicles that pool money from various investors to purchase a diversified portfolio of stocks, bonds, or other securities. The fund is managed by professional portfolio managers, who make investment decisions on behalf of the investors.
Mutual funds can be actively managed, where fund managers actively make decisions to outperform the market, or passively managed/index funds, which aim to replicate the performance of a specific market index.
Exchange-Traded Funds (ETFs) are investment funds that pool money from investors to invest in a diversified portfolio of assets. Unlike mutual funds, ETFs are traded on stock exchanges like individual stocks.
ETFs can track various indices, sectors, or asset classes. They provide easy access to a wide range of investment opportunities. They typically have lower expense ratios compared to actively managed mutual funds.
Bond Funds are mutual funds or ETFs that invest in a diversified portfolio of bonds. Bonds are debt securities issued by governments, municipalities, or corporations to raise capital.
Bond funds can focus on different types of bonds, including government bonds, corporate bonds, or municipal bonds. A bond fund’s risk and return profile depends on the types of bonds it holds.
Investors in bond funds receive income in the form of interest payments, and the fund's value may fluctuate based on changes in interest rates.
The most important part of long-term investing is managing your emotions and expectations. When investing for a 5, 10, or 20-year-plus horizon, what the markets are doing today, this week, or this month doesn’t matter.
When you are starting as a long-term investor, remember that the most common reasons individual investors fail to grow their wealth over the long term are:
They spend money out of their account faster than their account can grow.
They panic during a market downturn and sell out of their investments at the bottom, then fail to re-invest and capture growth when the market turns around.
If you invest in long-term funds appropriate to your risk tolerance, minimize spending from your investment accounts, and avoid panic-selling at the bottom of a market swing, history suggests you will see appreciation in your investments over several market cycles.
Let’s take the next step together
Understanding how to invest an inheritance is not easy. Inheritors can encounter a wide variety of different situations requiring knowledge and finesse to manage. If you need more help, you can download The 20 Inheritance Terms you Need to Know, or reach out to Katherine Fox, CFP® and CAP®, a financial planner for inheritors to learn how Sunnybranch can help you build a plan to invest your inheritance.
